5 risks of gold

5 Risks of Gold

W W W. G O L D R AT E F O R T O D AY. O R G

1. Physical Risks of Gold Ownership

2. Gold Exchange Risks3. Volatility of Gold

4. Political Risks5. Scams

5 GOLD RISKS

W W W. G O L D R AT E F O R TO D AY. O R G

1. Buying gold bars and coins exposes the investor to the risk

of loss and theft

1. PHYSICAL RISKS

1. Costs are involved to limit this risk

2. The transport of gold needs to be insured

3. Gold has to be kept in a personal safe at home or, better

4. In the bank’s safety deposit box 5. Here, renting fees incur

1. PHYSICAL RISKS

1. A bank vault is probably the safest place for storing gold

2. However, investors should not believe that the bank will store the precious metal for generations

1. PHYSICAL RISKS

1. HSBC customers had to face this situation

2. The bank asked end of 2009 its small retail customers to remove their gold from the banks’ New York vault

3. This resulted in an armada of armored cars, bringing gold out of New York

1. PHYSICAL RISKS

1. Another advantage of a bank safety deposit box is that the gold is not immediately available

2. As it can be only accessed during bank hours

1. PHYSICAL RISKS

1. Another issue is the insurance limit

2. In Germany, for example, bank safety deposit boxes are insured only until US$ 28,000

3. With the current gold price, this corresponds to 20 gold coins (each 1 ounce), or 567 gram

1. PHYSICAL RISKS

1. How secure are safety deposit boxes?

2. In the first quarter of 2010, thieves removed in a bank in Paris the contents of around 100 safety boxes

3. A couple of month later, in French Bank, nearly 200 safety boxes were cracked open and its contents stolen

1. PHYSICAL RISKS

1. Property insurance usually either has a limited cover for loss of physical gold, or does not cover it at all

2. In both places, additional coverage needs to be purchased

1. PHYSICAL RISKS

1. Besides safety boxes and personal safes at home, some people bury their gold on their property (midnight gardening)

2. Will this reduce the risk of physical gold?

3. In some ways yes, as it reduces the likelihood of theft

4. However, those people should make sure to dig out the gold when they move (or die)

1. PHYSICAL RISKS

1. Besides safety boxes and personal safes at home, some people bury their gold on their property (midnight gardening)

2. Will this reduce the risk of physical gold?

3. In some ways yes, as it reduces the likelihood of theft

4. However, those people should make sure to dig out the gold when they move (or die)

1. PHYSICAL RISKS

1. Exchange risks refer to the exchanges where gold and

futures are traded, and not to currency risks

2. The two major gold futures exchanges are the New York

Mercantile Exchange (NYMEX) and the Tokyo Commodity

Exchange (TOCOM)

2. EXCHANGE RISKS

1. Trading at these and all other exchanges is subject to their

rules and regulations2. The exchanges can on purpose

or accidentally foster market outcomes by changing their

trading rules

2. EXCHANGE RISKS

What events can happen at an exchange?

2. EXCHANGE RISKS

1. Margin Requirement Change1. A margin requirement states

how much money needs to be available in the futures account

to be able to speculate on future contracts

2. The higher the margin requirement, the more money is needed to control the same

amount of the underlying asset

2. EXCHANGE RISKS

1. If the margin in the margin account is below the margin

requirement, then the investor either has to increase the margin, or sell securities

2. Thus, rising the margin will in average result in more selling and as a consequence in price

droppings

2. EXCHANGE RISKS

1. In December 2009, COMEX raised the margin requirements for gold (and silver) contracts

2. It was speculated that this increase would result in a

bearish future gold market for three to six months

2. EXCHANGE RISKS

2. Liquidation only1. Here, the exchange temporarily

restricts buying, thus driving the prices down

2. COMEX restricted silver buying in 1980, when it reached an all-

time high of US$ 503. Will the exchange also declare

a “liquidation-only” policy on gold, which also trades for a

record price?

2. EXCHANGE RISKS

3. Halt trading: 1. This event is the most extreme

measure2. Here, an exchange temporarily

halts the trading of a particular future contract

2. EXCHANGE RISKS

1. The price of gold, as of every traded asset, is subject to the ups and downs of the market

2. The rate of this precious metal can fluctuate fundamentally

3. The volatility of gold must be a concern to all short- and long-

term investors

3. VOLATILITY

1. Gold’s value is shaped by demand and supply

2. The factors are gold production by gold mines, central banks,

investors and the industry (jewelry, electronic etc.)

3. VOLATILITY

1. Thinking that it is possible to exactly calculate and predict

the gold price is plainly wrong2. There are many factors that

influence the price, but cannot be predicted

3. Such as the discovery of new gold deposits, and natural disasters that destroy gold

3. VOLATILITY

Other factors that make the gold price unpredictable and

volatile:1. The interplay of the

international financial system2. Inflation and interest rates

3. Alternative investments4. The irrationality of investors

3. VOLATILITY

1. In average (especially since the beginning of 2000) the gold

price has risen2. This is because of the increased

demand in emerging market (predictable),

3. Central banks that stepped up their reserves gold reserves (partly predictably) and the financial crisis which made

gold a more attractive investment (unpredicted by

3. VOLATILITY

1. The 10-year upward trend of the gold price asks for caution

2. First, gold is now at an all-time high

3. Thus, investors who buy gold now do it when the price is as high as never before. Is this a

wise move?

3. VOLATILITY

1. Second, history tells us that the gold price can fall, and stay down for extended periods

2. If someone had bought gold in 1979,

3. that investor would have to wait for thirty years until the gold price had reached the

same level, so that a sell would not result in a loss (not

considering inflation and opportunity costs)

3. VOLATILITY

1. Third, oil is in many respects similar to gold:

2. both are popular commodities among traders, both are finite resources, extraction is costly

and difficult to replace 3. The recent history of the oil

price should be a warning of the volatility risk of this

commodity, and of all assets

3. VOLATILITY

1. Oil stood in the beginning of 1999 at a low of US$ 19 per

barrel 2. In July 2008 oil was at US$ 147 3. Within one year the price fell to

US$ 34 4. This is an unprecedented drop

of 77 per cent within just twelve month

3. VOLATILITY

1. Could this also happen to gold?

2. How to know when the gold price has reached its peak?

3. VOLATILITY

1. The volatility of gold is a market risk

2. Another market risk is the liquidity risk

3. This occurs in thinly traded markets, where sellers have difficulties in finding buyers

4. Futures of not actively traded contracts might run into this

risk 5. Shares of small stock mines

might also face liquidity problems

3. VOLATILITY

1. The political risk of gold investing means that the

government can change laws and regulations that may harm

your investment in gold2. These government

interventions can happen in the country of the investor or in

another country3. Both would have an impact on

the gold price

4. POLITICAL RISKS

First, prohibition of Gold Ownership

1. It is thinkable that the government prohibits the

possession of gold and requires gold holders to sell their asset to the government at a fixed

4. POLITICAL RISKS

1. In 1934 Franklin D. Roosevelt passed a law that made it

illegal to possess gold2. The only exception was gold for

industrial and artistic purposes3. The price was fixed at US$

20.67 for which one ounce of gold had to be exchanged

4. POLITICAL RISKS

1. The US congress passed this law to prevent private gold to become a competing currency

2. The possession of gold by private citizens with only

legalized 39 years later in 1973 by the President Gerald Ford

4. POLITICAL RISKS

Second, nationalization of gold mines

1. Politicians could also nationalize gold mines or

heavily tax companies that produce and trade in this

precious metal

4. POLITICAL RISKS

1. In 2005 Chavez, the Venezuelan president announced the

confiscation of the property held by Crystallex, a Toronto-based gold-mining company

2. This resulted in a drop of its share price by 50 per cent in a

single day3. Besides that, the dictator levied

taxes on many foreign companies

4. POLITICAL RISKS

Third, fixed gold price1. The government could first,

limit and control gold trading by restricting the amount of

gold to be sold or by determining a fixed price

4. POLITICAL RISKS

1. Before 1972 the gold price either directly (classical gold

standard) or indirectly (Bretton Woods System) determined the value, and the exchange rates

of the currencies of most Western Nations

2. Therefore, their governments determined a fixed gold price

4. POLITICAL RISKS

1. During this time, the gold rate was not volatile which made

trading and speculating in this precious metal a futile act

2. Even though currently the gold price follows the law of the market, future governments

might reintroduce a fixed gold rate so that the national

currency can be pegged to this metal

4. POLITICAL RISKS

1. Or the government might decide that gold trades for a

too high rate2. The US Commodities Futures

Commission already has the authority to dictate a trading

halt for futures3. This might be used on gold

futures

4. POLITICAL RISKS

How to anticipate and circumvent these government

risks? 1. First, an investment in gold

mines should occur only in stable countries, such as

Canada and Australia (unless high risk investments are

desired)

4. POLITICAL RISKS

1. Second, it might be wise to distribute personal gold

reserves to several countries, in case of confiscation

2. Third, investors should always be well-informed about world news which can influence the

gold price

4. POLITICAL RISKS

1. Second, it might be wise to distribute personal gold

reserves to several countries, in case of confiscation

2. Third, investors should always be well-informed about world news which can influence the

gold price

4. POLITICAL RISKS

Gold scams are 1. Fraud

2. Misrepresentation 3. Market manipulation

To know the typical gold scams is the first step to avert them

5. GOLD SCAMS

First, Fraud1. Buying scrap gold (old

jewellery) for only half or less of the gold price can be considered as fraud

2. Typically Businessmen having this in mind announce their scrap gold sale in local radio

stations and rent a hotel lobby on a Saturday morning for this

purpose

5. GOLD SCAMS

1. Another way of fraud is selling gold numismatic coins at prices

which highly surpass the material and collector’s value

2. The victims are often old people who can easily be tricked into

this business deal

5. GOLD SCAMS

1. From time to time Nigeria Emails arrive in the inbox

2. Here, a businessman with connections to Nigerian gold mine tries to sell gold by the

kilo for prices that are far lower than the current gold rate

3. Of course, this was a legal business and gold export

licenses did exist

5. GOLD SCAMS

1. The only catch, for the transaction it is necessary to fly

to Nigeria

2. (It is up to the email recipient to decide whether this is a

genuine business opportunity)

5. GOLD SCAMS

Second, Misrepresentation

1. Imagine, a bank sells gold which the buyer never

physically receives, but which is stored in the bank’s vault

2. The bank further charges the gold owner storage fees

3. So fine so good

5. GOLD SCAMS

1. Let’s now assume the owner of the precious metal insists on

seeing the gold

2. Now it is discovered that the bank never actually possessed

the gold

3. How would one call the bank asking for storage fees of something that was never

stored?

5. GOLD SCAMS

1. Do you think this incident is highly hypothetical, or would

only happen in dodgy countries?

5. GOLD SCAMS

1. Well, this allegedly happened at the bank Morgan Stanley

2. In 2005 a class-action suit was filed against Morgan Stanley

5. GOLD SCAMS

1. The bank was accused of selling between 1986 and 2005 physical gold and other

precious metal to clients who paid fees for storage at this

2. But allegedly Morgan Stanley either made no or a different investment on behalf of its

clients

GOLD SCAMS: THREE TYPES

1. The result was that Morgan Stanley would pay US$ 4.4m to

settle this class action suit

2. "While we deny the allegations, we settled the case to avoid the

cost and distraction of continued litigation," Morgan Stanley said in a statement

GOLD SCAMS: THREE TYPES

Third, Market Manipulation

1. What is market manipulation?

2. These are actions that try to distort the market equilibrium

5. GOLD SCAMS

1. For example, in the beginning of 2007 there was an incident regarding naked short-selling

among stocks of smaller mining companies

2. Here, shares were massively sold to force the price of the

shares down

5. GOLD SCAMS

1. Also, governments could be labelled as market manipulators if the restrict the free trade of

2. Vietnam is such as case

3. In the beginning of 2011 it was reported that the government had plans to ban the trade of gold bars on the free market

5. GOLD SCAMS

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